Stock market rise and interest rate cut

Country's secondary capital market, which is represented by stock market, has recently experienced a sharp rise. DSE (Dhaka Stock Exchange) broad Index has reached a record high of 5342 since its introduction in 2013. Daily turnover in term of both value and volume has increased substantially. Capital market experts are optimistic of sustaining this rise for a longer term. Stock market rise is always considered as a good sign for the investors and the economy as well. It is believed that vibrant stock market indicates a country's economic development. In the developed world, stock index is always considered as economic barometer and therefore, bearish stock market is known as the consequence of economic recession while the bullish trend is regarded as economic boom. A similar perception and interpretation should also apply in the case of our country.  However, this theoretical interpretation does not necessarily work in the stock market all the time because it has been frequently experienced that bearish and bullish trends of stock market have in many cases been inconsistent with the country's economic growth. Our country's economy has been persistently developing for the last few years. The gross domestic product (GDP) and other economic parameters have been continuing to rise during the last few years whereas country's stock market remained in the bearish trend which is completely inconsistent with economic growth.  
STOCK MARKET IS SENSITIVE TO NATIONAL AND INTERNATIONAL EVENT: Capital market, particularly secondary market, is characterised with some special features, including speculation, which has made stock market very sensitive. Any event, ranging from political unrest to terror attack, may influence the stock market. Therefore, whenever any incident takes place, the stock market reacts or whenever stock market becomes more active, investors try to find any report of national or international event.
At the present situation we do not find any national or international event that may be active behind recent stock market rise in our country. National budget will be announced after six months, so it should not have any influence in the capital market now. Although Bangladesh Bank will announce its second phase of monetary policy on  January 24, this should not have any impact in the country's secondary market. Donald Trump's swearing-in as new American president might have some impact in the stock market in the US and Canada but not in our country.
So the reason behind such record-high DSE index, coupled with extensive increase in the trading volume, is best known to the capital market specialists of the country. However, it is possible that drastic interest rate-cut may have played a significant role in stock market rise.
LOW INTEREST RATE AND CAPITAL MARKET: During the last one year, efforts were underway to reduce interest rate on bank savings and lending rate as well. Significant rate-cut on both savings and lending has taken place in the recent past, particularly during the last six months, when both rates have been brought down to single digit. Average deposit rate has come down from above 10 per cent to below 5.0 per cent while average lending rate is now 9.0 per cent and lower. Pursuing extensively low interest rate will not only discourage savings but also push a good number of savers to look for alternative investment opportunities of which stock market may be one of the good targets. Moreover, lowering lending rate will make borrowing from bank available at cheap price which will encourage people to borrow and invest in the capital market. Therefore, this dramatic move on country's interest rate policy will definitely cause great swing from money market to capital market. Whether such measures of discouraging money market and encouraging secondary capital market will fetch any long-term benefit for general investors, savers and the country as a whole is the subject of long discussion and we will have to wait a long time to experience its future implication. However, we have to keep in mind that money market and capital market are two separate and independent components of country's financial market and these are neither complementary nor supplementary to each other. They are categorised with their exclusive traits and features with common objective of benefiting the country's financial market and the economy as a whole. Therefore, very careful and utmost caution is exercised while formulating policy regarding country's money market and capital market.
Since some policy measures have dual impact, the associated risk thereof is thus mitigated by adopting some restrictive measures. Adopting Dodd Frank Act in US after economic recession in 2008 is an good example of restrictive measure between free flow of money from capital market and money market or vice versa. Because of this act, now financial institutions in the USA cannot make investment in the country's capital market from its own fund. Our economists, bankers and policy makers should exercise their prudence and thus distinguish between capital market and money market while formulating policies and strengthening oversight so that interest of the general investors and depositors are well protected. Otherwise, innocent depositors may lose their hard-earned savings and general investors may be thrown on the street after losing their own money as well as borrowed money in the capital market. We witnessed such bitter experiences several times in the past.
ALL TYPE OF FUND IS NOT SUITABLE FOR STOCK MARKET: Capital market is the place of long-term investment and more importantly, secondary market is speculative in nature so all types of fund are not fit for this market. Savings has multiple purposes - people save money for meeting some immediate obligation and some long-term obligation. Moreover, some people have very limited amount of savings which is hard-earned and the residual portion of one person's entire earnings, viz., retirement benefit. This type of savings must not be invested in the capital market because the feature of this type of savings is contrary to the characteristic of stock market. However, mutual fund with steady growth potential is the exception to this theory because this fund constitutes with lion share of risk-free investment, so this fund is considered as good opportunity for conservative and vulnerable group of investors.  Similarly, personal borrowing is not suitable at all for capital market because this exposes the investors at high risk of losing other's money. Moreover, personal borrowing is always repayable on demand, so this special feature of personal borrowing always exposes the investor at high risk of losing money. Besides, the personal lender does not know the purpose of this kind of borrowing and therefore, money set aside for meeting immediate obligation may be lent for personal lending in an anticipation of getting it back very soon what does not happen in reality, particularly when invested in stock market. Apart from this, investment in stock market through personal borrowing carries higher risk than that of own fund because losing own investment will leave the investors at break-even while losing borrowed money in the capital market will leave him/her in the negative situation of personal finance which will have to be balanced from future earnings. Investment in stock market through personal borrowing not only causes financial loss but also strains social bondage. This, however, applies to personal borrowing for any purpose. Therefore, stringent rules and regulations should be in place to refrain people from investing in the stock market through personal borrowings. In this connection, Financial Advisers have a big role and responsibility to play and honest declaration from the investor is mandatory. This declaration form must be randomly verified and audited by the regulators. There must be provision for severe punishment, including forfeiture of investment and imprisonment, for those who will make false or untrue declaration. This measure seems to be harsh but for the sake of greater interest of the capital market, this has no substitute.  
Nironjan Roy, CPA, CMA is a banker, Toronto-based banker.
nironjankumar_roy@yahoo.com